Mr. Lawyer and Mr. Accountant Chat About Taxes

On Friday, I stopped by the office of my friend, Mr. Accountant. Another friend, Mr. Lawyer, was there, and the three of us fell into conversation. “How’s the web site going,” asked Mr. Accountant.

“Good,” I said. “But I’m stuck on something. Maybe you can help. On Monday, I’m supposed to share my best piece of tax advice. I don’t have a best piece of tax advice. I don’t know much about taxes at all. Do either of you have a best piece of tax advice?”

“One thing I see a lot,” said Mr. Lawyer, “is people who don’t understand how taxes work. They don’t know how they’re figured, so they have way too much or way too little withheld from their paychecks. They don’t understand the process. My best piece of advice is to take a little time to determine your tax situation at the beginning of the year so that you can get your withholding right. Then there won’t be any surprises at the end of the year.”

“Yeah, that’s good,” said Mr. Accountant. “People get upset when their tax liability is greater than they were expecting. They feel like the government has done something sneaky and is tricking them out of their money.”

“But that’s not the case,” said Mr. Lawyer.

“Not at all,” said Mr. Accountant. “Most of the information is there at the beginning of the year, and you can find all sorts of on-line calculators to explore your situation. The IRS has a great web site.”

“Yeah,” I said. “It seems that whenever I go looking for some piece of tax information, I always end up at the source — the IRS.”

“Here’s my best piece of tax advice,” said Mr. Accountant. “You have to pay. The government is going to get what the government is due. Don’t ever try to cheat on your taxes. It’s not worth the risk. People get upset about taxes, but getting upset doesn’t do any good. The best thing to do is get over it. Pay your taxes and move on. ‘Render unto Caesar’ and all that…”

“That’s not to say that you shouldn’t maximize what the government is going to give you,” said Mr. Lawyer.

“Right,” said Mr. Accountant. “You should claim everything that you’re entitled to. But people complain too much. Taxes aren’t bad. They mean you’ve had a good year.”

“I’ve never thought of it like that,” I said. “But I guess it makes sense.”

“Yeah,” said Mr. Accountant. “When I meet with clients, it’s not the rich who complain. They’re grateful to have made money during the year. It’s usually the middle-class who complain. The person who was expecting a $2,000 refund but only gets $500 is the most upset. He’s livid. And he’s getting $500 back! But the guy who was expecting to owe $75,000 and only has to pay $50,000 is ecstatic. And he’s paying $50,000 to the government.”

Mr. Lawyer laughed. “I can see that. That’s a problem I’d like to have. When you owe that much in taxes, it means you’ve earned a lot of money.”

“Exactly,” said Mr. Accountant. “Like you said, it’s important to have a basic understanding of the tax laws, and to prepare based on your situation.”

So the top tax advice from my two most important personal finance advisors is: don’t cheat, and plan now for your tax situation next year. I’d add that you should watch out for common red-flags that lead to IRS audits:

Incomplete or sloppy returns

Suspicious income (too high, too low, drastic changes)

Using round numbers

Too many itemized deductions

Participating in tax scams

What about you? Do you have a piece of tax advice you can share with Get Rich Slowly readers?

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My tax tips:
Don’t try to manage money in ways that are out of your league. If you don’t have a basic understanding of how capital gains and short-sale taxes work, quit day trading. If you don’t know the difference between a Roth and Traditional IRA, make it a weekend task to understand why one might be better for you and your taxes. You can run up your tax bill very quickly without meaning to.

Another tip, lump your charitable contributions and itemize. Consider making a pre-payment in ’08 to your church for all of your tithes in ’09 to increase your charitable contributions this year, then take your standard deduction next year.

Secondly, for those who have voiced opinions against using tax money to fund the military, check out the national campaign for a peace tax fund (http://www.peacetaxfund.org/)

Getting your withholding right is one of my favorite points above. I think it’s amazing how many people absolutely love getting a refund and think it is of great financial benefit – that they’ve done right. I recently wrote an article all about this topic that has some resources on how to get your withholding allowances right.

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Euler

I was curious about the bit at the end about the red flags. I’ve always rounded my numbers, and have noticed that Tax Cut rounds the numbers automatically now (I recall that they at least used to ask if you wanted to round the numbers). With more and more people using software to prepare their taxes, do you think this will continue to be considered a red flag?

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Christina

Back to tax tips:

-Call and speak to the shockingly friendly people at the IRS when you have questions (1-800-829-1040 for individuals, 1040 har har). The people I spoke to were incredibly competent and helpful, and I got all my questions answered.

-For those of us with student loans, don’t forget to deduct interest payments.

As to protesting taxes:

I don’t like my money funding a war. Our government is far from perfect, but until I am ready to actively campaign for a change for the better (instead of just bitching ineffectually), I’m just going to accept my government, the good with the bad, and pay.

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Bill

One thing I learned is that much less attention is paid to the expense side of your tax return than the income side.

Towards the end of her illness, we were deducting 6 figures due to mom’s medical expenses, and never got the first inquiry from the taxman.

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a different perspective

I don’t mind paying property taxes or local taxes. Those taxes fund the paychecks of the police officer who will come to my aid on the side of the road or in the middle of the night, and the firemen who will come carry me and my family out of a burning building, and provide lunches for the needy kids in the school around the corner. Do NOT call local taxes blood money – they aren’t going to Iraq; they are going to the people in my neighborhood. You can call the taxes you pay to the *federal* government blood money all you want.

(Not that I agree with the current situation; just reminding everyone of the ultimate destination of the taxes we pay.)

-an almost-CPA.

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Master Your Card

America:

Capitalism for the poor
Socialism for the rich

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Some Perspective Please

I’ve been reading Get Rich Slowly for a few months now, but I have to say I’m shocked today. It seems that Greg C is the only one willing to stand up for his rights in a meaningful, assertive way.

The rest of you sound like your apologizing for a system that taxes the middle class at near 50% (when you include all state/local income, property, and sales taxes). This blood money is then spent on Iraq, on corporate welfare, on warrant-less wiretapping, and for subsidies to everyone on globe who bothers to stick out their hand and claim a piece of your life. Still, the national debt and deficits continue to grow to historic proportions. This is not a government focused on building parks and libraries.

How long and how much can the country continue to take from its productive citizens until we slowly become poor? Average households are struggling. I believe the US mortgage collapse is just an overture to a much longer work in progress.

Unfortunately, I have few practical actions to offer as a solution. But to begin with, we should not give this issue such blithe assent – even in our private conversations.

J.D., Are you really that rich to ridicule a man’s anger for losing $1,500 of his refund to extra tax? Where the heck do you live? Candyland?

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J.D.

J.D., Are you really that rich to ridicule a man’s anger for losing $1,500 of his refund to extra tax? Where the heck do you live? Candyland?

I think we’re talking about two different issues. Or you’ve failed to see what this post is actually about.

I have no problem with people protesting taxes for whatever reason. Some, like Don Schrader, carry their protests to an extreme. I admire this. Schrader is opposed to money spent on the military. Others support the military but are opposed to social programs. I think everyone can agree that lower taxes would be nice.

But that’s not what this entry is about. This entry is about advice for dealing with current taxes. The gentlemen I spoke with had two pieces of advice: prepare yourself so that your tax obligation doesn’t come as a surprise (which is what happens when you think you’re getting a $2,000 refund but only get $500), and don’t try to cheat.

I’m all in favor of people protesting taxes. That’s a good thing. But tax protests are about the future. This entry is about the present.

(Just for the record, I share your anger over how the government spends its money. Corporate welfare, especially, makes me tense. I’m all for free entreprise, but what we have in the U.S. isn’t so much capitalism as it is a sort of corpocracy.)

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Angie

As someone who spent quite a bit of her early life supported by your federal tax dollars, I’d like to give you all my thanks.

When I was a kid and my mother (a single parent who never received child support) became disabled, your federal tax dollars kept food in my belly, clothes on my back, and a roof over my head. Thank you.

When a bright but poor student like me had strong enough grades and SAT scores to be admitted to one of the nation’s best colleges, your federal tax dollars (in the form of Pell grants and National Direct Student Loans) helped make it possible for me to take advantage of that opportunity. Thank you.

I finished college with great grades and great GRE scores and was admitted to graduate school in the sciences. Your federal tax dollars paid for the training grants and research grants that funded my doctoral training. Thank you.

The federal tax dollars that have continued to support my still-disabled mother allowed me to live up to my full educational potential instead of going to work to support her directly. Thank you.

Although I too have serious misgivings about how some of our federal tax dollars are spent, I uncomplainingly pay my taxes each year because I know from personal experience that America would be a much, much different place without the social safety net funded by, yes, our federal tax dollars.

“Human capital” is a hard to quantify, but I think I’m able to bring something way different “to the table” as a citizen now that I would have otherwise.

I’m certainly much more financially secure than I would have otherwise been as a result of the educational opportunities afforded to me by those federal tax dollars. I think the US treasury is still a few years away from “breaking even” on me, but it’ll come out ahead in the end.

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Travis

J.D.,

Great article! I am a person of my word and my offer still stands that I posted on your 2/20/08 post.

My Tax Tip (my accountant showed me):
If you have a stock that you have had significant losses on during the year YET you still want to keep it. Sell the stock, take the capital loss deduction then by a “index fund” within the same industry. Hold for 31 days, sell, then by back your original stock. It doesn’t triger the IRS “wash rule” b/c an index fund is looked at as seperate than an individual stock.
I hope that made sense, check with your own accountant and see if he agrees.
Travis

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rstlne

It’s not a bad thing to complain about taxes. If no one complains, that gives our legislators license to put even more of the burden on us when the government overspends. At least if we have a dialog going, it could become an election issue and then maybe we’ll see some meaningful reform.

My tip is to move to a state with a lower sales, property, and/or income tax, depending on your goals/lifestyle. You’d be surprised at the differences between states. For example, I’ve been researching a move to Delaware from New Jersey and I noticed that the state income tax in the former is a bit lower than the latter. That would be a great bonus on top of the zero sales tax in Delaware. Of course, there are many other factors you have to consider when making a move, including cost of living, job availability, culture, climate, etc, but if everything else is more or less the same, consider the tax situation too.

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Greg C.

I am one of the complainers. I am morally opposed to federal income taxes. However my method for dealing with my displeasure is to just “pay the rent” and go on with my life. It’s one of those things in life where its probably more worth the effort making so much money where it doesn’t matter. Unless you want to be like that guy who bathes in his urine.

The problem with voting and politics ( in regards to the tax and spend issue) is that voters and politicians run and vote on what they can do with other people’s money. It’s all about bribery and special interests on every level. People buy and sell votes and power. Electoral politics is not an arena for consistently frugal people. Unless you are personally “frugal” but don’t mind wasting other people’s money. Politicians are power hungry and voters overwhelmingly do not want their rights or freedoms protected- they want empty promises of “what can you GIVE me”.

The producers in society just decide to pay the fees and go about their business.

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kp

Best advice: Don’t trust the IRS, and take time to read Title 26 USCA Sub A “IncomeTax” yourself. Learn what you own and why. Have first hand knowledge and not second hand ignorance.

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Christine

This comment isn’t so much tax advise as another way to look at the taxes that you do pay.

I know quite a few people who think that it would be great if we didn’t have any taxes. While I’d agree that sometimes tax money goes to things that we disagree with or to poorly run government offices, a lot of taxes pay for things that are really useful to us.

Many of the frugality ideas on this blog involve taking advantage of things that our taxes pay for – public libraries; city, state, and national parks; gardening and nutrition materials from the department of agriculture; schools for your children and/or the children who will one day provide the services and goods that you depend on; bridges and roads that we drive on; etc. These services aren’t perfect but only the richest of us would be able to buy access to them on our own.

You want to handle your taxes sensibly and not pay more than your share but they aren’t the worst thing that ever happened.

@ Michael – You should be issuing 1099s for those programmers. The money is a valid business expense for you and income for them, both of which should be declared.

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Michael

I have a question:
I am a full-time employee and I own a web site development business as a side job as well. For my web business, I hire programmers from oversea to do the work for me and I pay them the money to do it. The thing is that they do not have any records or paper work to prove that they work for me. The only record I have is the bank transfer every month when I pay them.

When I do tax, is this somehting I could write off for?

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Money Blue Book

I do contract legal work as my full time job. In my line of work I frequently encounter individuals who naively think exceeding $100,000 a year is bad because that’s when Uncle Sam starts taking larger chunks of your money away.

What they fail to realize is that the government is doing so because you are making more than you were before. You will never be worse off for making more, you’ll just be taking less of your income back in marginal terms.

These individuals I speak of are all fellow lawyers. This shows how little even lawyers who primarily work in other legal areas really understand the tax system.
-Raymond

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Adfecto

Fun read.

There are times that I understand when a person complains for getting an extra large tax bill. The one at the top of the list is the Alternative Minimum Tax. One year my parents got hit without having any warning and as a result nearly all of their deductions were taken away. The resulting tax bill was around $20k and completely took them by surprise.

I have also had a few friends my age who have gotten screwed over by the system when their parents claim them as a dependent while providing ZERO real financial support. My friends are unable to claim the tax credits for tuition and fees which really should qualify. Another friend (23) worked 40+ hours a week and took 9 credit hours of grad school, but was excluded from deductions and credits such as the Saver’s Credit because he was considered a “full time student.”

The system is so complex that far too many people fall through the cracks and truly do wind up paying an amount that common sense would judge to be wrong.

Re-reading this, I can see I’ve “polished” the conversation which made it a little less human than it actually was. Heh.

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J.D.

@Sean

Actually, most of this dialogue is pretty real. Some of it is directly from notes I jotted while we were talking. However, the bits and parts that I had to fictionalize (there were two accountants, not one, for example) probably pushed it over into “stilted”. 🙂

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Dennis

Taxes get a bad rap a lot of times because like Ron said, the money is wasted a good portion of the time. I like to think of it as building parks and libraries and busses and trains. Maybe it just makes it easier to give away a portion of my check that way. I at least like to believe my tax money helped someone along the way.

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Cap

So IRS’s withholding calculator hasn’t been working for weeks now… oy vey.

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Sean

Urk. The advice is good, but this reads like a “Rich Dad, Poor Dad” chapter. I think it’s the stilted, fictionalized dialogue. I mean, I’m sure this is based on a real conversation, but the dialogue itself is obviously made up.

Also the bit about middle class whining. Trust me, the rich resent taxes as much as the next guy. 😉

Just so you know, I generally love your blog, and I’m a long-time reader. This column just struck some sort of nerve, as Kiyosaki really irritates me.

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Ron@TheWisdomJournal

I’m one of the one’s complaining but it’s because I disagree with how my tax dollars are spent. There is more waste than anyone wants to admit, some estimates are in the trillions of dollars.

I pay what I owe, but I maximize every deduction and credit and work to insure that I break even at tax time.

I also vote, having done so since 1984, but it never seems to do any good. The politicians always, ALWAYS disappoint me when they get into office.

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Jared

Awesome article, thanks! My wife and I had a similar experience where Quicken estimated a large return, and in actuality, it was much smaller. I had to keep reminding her that even though it wasn’t the large amount, at least we were getting money back, not having to pay more.

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elisabeth

We used a CPA for years because we weren’t married but did own a house together, part of which we rented out, and each of us had both employed and self-employed income to declare — sure, we could probably have figured things out (on the “how many Ph.Ds does it take to do a tax return” model), BUT, we decided time = money and not having to think about it was a better deal. Plus, I like the idea of having someone who, in the unlikely event we were audited, would be part of the solution!
The year I had cancer the CPA was especially helpful, since I ended up having to file late that year and the year after he was helpful again, when he worked out whether (we got married during my cancer year) filing jointly or singly was the best option… So, while it isn’t inexpensive, it is a good luxury item for us, and having a long-term relationship with a CPA has been of value.

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Stephen Martile

J.D.,

Thanks for the advice and your account of the conversation. Love the style.

My Quick Tax tip.
If you own a business then try and combine your business trips with your vacation trips. My wife and I completed a personal development course and a ski vacation in the same trip. Now we can write off the flight and some other expenses from our ski vacation because we were on a course – an expense to my business.

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Charlie Park

Two bits of advice. One that’s for everyone, one that isn’t as universally applicable.

For everyone: Like Betsy said (#4), have a file. We have a filebox for all of our important papers. We have a file cabinet in the basement that acts as an archive, but for all “live” documents, we have files for them in a portable file box, which we keep on the first floor, in the space where we spend most of our time. In the filebox, we have a “2007 Taxes” tabbed manilla folder. Anytime we get a 1099, or county tax receipts, or gift confirmation letters from nonprofits, or anything else that might be tax-related, we toss it in the folder. At the end of the year, everything’s all in one place, and we don’t have to hunt through different stacks of papers or drawers full of unimportant papers to find the info we need.

For anyone who can: Because my wife and I are now running our own business, we got a tax preparer to work with us this year, to set up our tax return. (We’re using the incredible Ryan Ellis, in the DC area.) I met with him for an hour in the fall, and an hour this weekend, and our taxes are now essentially done. Will it cost more than if I did them on my own? Absolutely. Is it worth it? Absolutely. For one thing, my taxes are now done, and I don’t have to spend the next month fretting and procrastinating. For another, I won’t spend a minute worrying that I missed some deduction or another. In fact, going through the paperwork with him this weekend, I saw that just some of the money he saved us will more than pay for his fees. I know not everyone needs a tax preparer, and it sometimes makes sense for people to do their taxes on their own. But I couldn’t be happier with our choice.

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KC

“Taxes aren’t bad. They mean you’ve had a good year”

I like this statement. I have friends who compain about making over $300k a year and having to pay all those taxes (that go to pay all these poor people who don’t work hard). I told them to just stop working and live off welfare and everything would be equal – funny how they don’t choose that option. I figure the more I pay in taxes the more money I paid that year – besides I make sure I use my tax money – libraries, parks, museums, roads, public university, etc…

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Adam

As for advice, remember that your refund is **YOUR** money. It is money that you overpaid into the tax system and have effectively loaned to the government interest free. A large number of people seem to have trouble understanding this point and think of their refund as free money from the goevernment (which it is only if you have no tax liability and can claim refundable credits such as EIC and Additional Child Tax Credit). The IRS charges a penalty if you underpay your taxes by $1,000 or greater. So the interest free loan works one way only.

Ideally in the tax planning stage, you want to decide what kind of return you want based on your projected financial standing. I like to shoot for a break even point where I have no refund or liability at the end of the year, others shoot to have a liability of just under the limit before a penalty sets in. Unfortunately, most seem to use it as forced savings that they use for a large purchase (least fiscally responsible option).

Disclaimer: I work part time for H&R Block during tax season.

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betsy teutsch – MoneyChangesThings

My best advice is KEEP GREAT RECORDS. Have a file ready to go and drop receipts, paid bills, and all relevant data like estimated payments, & letters in it. I have learned that is impossible for me to remember a transaction after I perform it! If there are deductible items on your credit card, be sure to include that as reminders, since if it’s an automatic payment you don’t get a paper trail.
For charitable expenses, have a separate file, if you itemize.
If you write checks, you can highlight and color code your check register. that is also helpful.

If you are stuck in a rut at your job, consider signing up for a class at a local university. You can offset the costs using the Lifetime Learning Credit on that year’s taxes, so a portion of it pays for itself. It may also help career things get “unstuck” and increase your earnings. Check the IRS regs for modified adjusted gross incomes caps that could impact your eligibility.

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Master Your Card

Always. Get. Receipts.

Ok, this one is a little obvious and isn’t specifically a tax tip, but I’m posting it anyway because (embarassingly) I never used to do it, and I know most of my friends don’t bother despite my constant protestations.

Whether the purchase is for $1 or $100,000, get that receipt, make a backup copy, and put it somewhere safe. Don’t just throw it in a box somewhere either – categorize it by purchase date or type. Seriously, I can’t emphasize this enough – it will save you major headaches down the track.

And as well as receipts giving you financial piece of mind, you’d be surprised how much a good accountant will be able to save you on taxes with a well doccumented purchase history, particularly if you’re self-employed.

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